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The Hands Off Approach: First Steps

The Hands Off Approach is a high-risk, high-growth investment strategy that, I believe, gives the average investor the highest chance for long-term success. This approach capitalizes on an abundance of time and the potential disruption or creation of billion dollar, and even trillion dollar industries. Here I cover the "First Steps" I would suggest to anyone who is interested in this investing approach. In short, assess your risk tolerance, make a budget, think like a venture capitalist to find opportunities, think like a big bank analyst to support your decisions, determine how much to invest between ETFs and single stocks, assign a weighting to each stock and ETF you intend to invest in, and then buy over time using dollar cost averaging.
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Overview

The Hands Off Approach is a high risk, high-growth investment strategy that, I believe, gives the average investor the highest chance for long-term success. As mentioned in my [Exclusive]Getting Started article, even if every stock on this platform is a winner (in the long-term), there are still many ways that investors can make very costly mistakes. That being said, it is very important for investors to establish good investing habits and to identify the investing strategy that works best for them.

The Hands Off Approach is an investment approach that capitalizes on an abundance of time and patience, and the potential disruption or creation of billion dollar, and even trillion dollar industries.

General Principles for Long Term Success

Although there are many embodiments of the Hands Off Approach, for different levels of risk tolerance, below are a few principals that should help all investors find long-term success with this strategy.

  1. Expect volatility.
  2. Don't be afraid of dips.
  3. Diversify, strategically.
  4. Try to buy and hold for the long term.
Disclaimer: The ideas, graphs, and other details outlined in this article are provided for general informational purposes only, and should not be interpreted as investment advice that is tailored to your specific goals, risk tolerances and other factors.

First Steps - Crafting An Initial Buying Plan

Part I - Assess Your Risk Tolerance | Determine Your Next Gen Portfolio Budget

Not all investors will have the same level of risk tolerance. Recent college graduates may be more inclined for risky investments, while older individuals who have dependents or are nearing retirement will likely be more risk averse. To get started with The Hands Off Approach, the first step is for you to determine your level of risk tolerance. More specifically, you should determine how much are are open to allocating towards the high risk, potentially high growth portion of your portfolio - also referred to as your Next Gen Portfolio Budget. [Disclaimer: This is very specific to your individual circumstances, which we do not and cannot assess for you. For help making that assessment, I encourage you to consult your registered financial adviser or broker. We are not a registered investment adviser or broker-dealer and cannot offer you individualized or personalized guidance or execute transactions for you. You must decide what level of risk and financial exposure is appropriate for you. Your analysis should not ignore that high risk investments carry a significant risk you could lose the principal amount invested completely.]

"Over the next 6 months, I am open to investing _____% of my portfolio in disruptive innovation, be it through ownership of disruptive ETFs or individual equities."

In our opinion, most investors should aim to have some part of their portfolio allocated towards disruption, depending on their individual financial circumstances and other factors like risk tolerance. Below are some ideas and questions you may want to consider or ask yourself when determining how much you should allocate towards your Next Gen Portfolio.

  • Short term market conditions should not greatly influence this decision. Look inwards for the answer to this question. Stock analyses, valuation considerations, and general market conditions may all be key parts of investment analysis, but not not at this stage.
  • Make sure not to confuse experience for risk tolerance. Even if you have very little experience, you could still have a large appetite for risk. Conversely, you could be very experienced but risk-averse for a host of reasons, e.g. you are close to retirement and wish to protect your principal.
  • Would you have the conviction to hold the investments in your Next Gen Portfolio if their value dropped by 20% or more? If not, you may want to lower your Next Gen Portfolio Budget. (For example, Tesla stock had three drops of 30% or more during its meteoric rise of more than 700% in 2020.)

Part II - Embrace the Duality | The Venture Capitalist and the Big Bank Analyst

Now the serious work begins. How you craft your initial buying strategy, I believe, should be divided into two steps. Before I go into the details of these steps, it is important to understand how they work together.

In step 3, you will be asked to think like a venture capitalist to:

  • Identify what you want to invest in.
  • Assess and understand why you want to invest in it.

Next, in step 4, you will be asked to think like a big bank analyst to determine:

  • If to invest in a given stock.
  • When to invest in a given stock.
  • How much to invest in a given stock.

I recommend to divide your analysis in this manner for numerous reasons.

Why not do it all in one step?

As I have mentioned in several other exclusive articles [1][2][3], it is important to differentiate between a stock with long term potential and a stock that is a good investment in the short term. Some stocks have great long-term potential but are currently overvalued, making them potentially risky investments. On the other hand, some stocks may not appear to have the biggest long-term potential but they are very undervalued today, making them potentially good shorter-term investments. I believe the best investments are those which have great long-term potential and are currently undervalued, although those are hard to find. Keeping this in mind, I believe it is important for you to segment your investment analyses in a manner that will allow you to make this distinction.

Why do you believe an investor should proceed in this order?

The idea is that you first (in step 3) find the stocks that you may want to invest in by analyzing their long-term potential, and then later (in step 4) determine if it may be the right time for you to invest in the stocks by considering your risk tolerance and current market conditions. In step 3, the factors you will assess and the insights you will gain tend to be more constant and less likely to change over time. On the other hand, in step 4, the factors you will assess and the insights you will gain are more likely to change, even from one week to the next.

Why consider different perspectives?

I believe evaluating the long term potential of a high-growth, high-risk stock is incredibly different from evaluating current valuations and market conditions. That being said, I recommend you not only conduct these evaluations using different methods and metrics, but to also to conduct these evaluations with completely different perspectives and mindsets.

My shorthand is: think like a venture capitalist to find answers to "What to Invest In" and "Why" because their methods are more appropriate for quantifying long term potential. On the other hand, I recommend to think like a big bank research analyst to find the answers to "If", "When", and "How much to invest" because their methods are more appropriate to assess current stock prices and market conditions.

Your goal is to combine the insights from these two perspectives to help you develop a buying strategy that makes you feel confident, while not forgetting, of course, to always factor in your individual factors like investment goals, financial situation and risk tolerance.

Part III - Think Like a Venture Capitalist to Identify "What" and Understand "Why"

After assessing your risk tolerance and determining your initial Next Gen Portfolio Budget allocation, you should conduct a holistic analysis of all of the disruptive stocks available on the market to identify and understand your favorite opportunities. In the end, you should be able to make a statement like this:

"I have identified, and listed in order of preference, ______ ETFs and ______ individual equities that I would like to further explore as investment opportunities, after having assessed their long-term potential based on their respective technologies, addressable markets and risk factors."

The goal is to identify and understand opportunities for disruption based on analyses of the technology, addressable market and investment risks involved. Conversely, the goal is NOT to determine if, when or how much to invest in those opportunities based on current valuations, recent earnings reports, or overall market conditions. To learn more about how to think about disruption like a venture capitalist, I encourage you to read my article [Exclusive] Disruption Score, Explained.

Part IV - Think Like a Big Bank Analyst to Help Determine "If", "When", and "How Much"

Now that you have identified some disruptive opportunities, it is time to outline a buying plan. Next Generation Stocks has developed a suggested method to help you develop your own buying plan. The point of the exercise is when your analysis is all said and done, you should be able to make a statement like this.

"I have developed a buying strategy, as outlined in my self-made Next Gen Portfolio Planner, to invest ____% of my Next Gen Portfolio Budget across _____ ETFs and ______ individual equities over the next _____ month(s)."

Step 1 - Allocate Funds to Your Buying Plan

Step 1- Allocate Funds to Your Buying Plan

The first step is for you to determine how much of your Next Gen Portfolio Budget you should invest in this current buying phase by evaluating current market conditions and keeping in mind your risk-tolerance, financial situation and other factors that are specific to you. Also, please remember, Just because you said you are willing to invest X% of your portfolio in disruptive stocks in Part I, doesn't mean you should invest it all at one time or during one buying phase period. For example, after extensive research, you could conclude that there is a moderate chance for an overall market downturn in the near future. In that case, it might be wise to invest only a portion of your Next Gen Portfolio Budget during your first buying phase. You can always undertake additional investing in the future.

Lastly, keep in mind, it is generally advisable to invest less than 100% of your Next Gen Portfolio allocation at any one time.

Step 2 - Determine ETF Allocation vs Self-Directed Allocation

Step 2 - Determine Distribution between ETF Allocation and Self-Directed Stocks Allocation

The second step is for you to determine how much you intend to invest in ETFs vs how much you intend to be self-directed and invested in individual stocks. Remember to consider your investing experience, as well as current market conditions when making this decision. The results should be a percentage of your current buying plan budget. (E.g. 70% of this buying plan will be invested in ETFs and 30% of this buying plan will be self-directed and invested in individual stocks.)

It is important to note that ETFs are a great investment vehicle for all kinds of investors. Experienced investors could use ETFs to reduce risk and increase diversification, especially during times of uncertainty. On the other hand, inexperienced investors could use ETFs as a means to invest in disruption while they are still gaining experience. That being said, I encourage all investors to read the article [Exclusive] Next Gen ETFs to learn more about our favorite ETFs.

The second step is for you to determine how much you intend to invest in ETFs vs how much you intend to invest in individual stocks by considering your individual factors like investing experience, risk tolerance and financial needs, as well as current market conditions. The results should be a percentage of your current buying phase budget.

It is important to note that while ETFs are a popular investment vehicle, they do have their own characteristics and risks. More experienced investors could use ETFs to reduce risk and increase diversification, especially during times of uncertainty. On the other hand, less experienced investors could use ETFs as a means to invest in disruption while they are still acquiring experience. I encourage all investors to read my article [Exclusive]Next Gen ETFs to learn more about my favorite ETFs while at the same time familiarizing themselves with the nature of ETFs, including their risks and cost.

Step 3 - Create and Assign Weights to Individual Stocks

The next step is to assess every ETF and stock that you identified in Part 3 with the goal of assigning different weightings to each of them based on your cumulative findings. The weightings will help you to determine how much of your current buying phase will be allocated to a given stock or ETF. The idea is to scale the weighting e.g. such that the "heavier" the weighting, the more you will end up investing in a given stock.

I anticipate that it will be more straightforward to evaluate ETFs, because you will likely only be investing across a handful of them. On the other hand, a weighting system can be very helpful when it may come to determining how much to invest across many individual stocks.

In the end, each of the individual stocks you identify should be assigned a weighting classification. Your weightings may look like this: heavyweight, midweight, featherweight, and no weight. (Please remember "No Weight" is an important categorization. Just because you liked a stock from the perspective of a venture capitalist (see above),doesn't mean you will like the stock from the perspective of a big bank analyst.)

Below is an example of how your weighting assignments may look like. In this example, I assume that you identified 38 stocks that may be good investments from the perspective of a venture capitalist - in part 3. In this step, you would have assigned a weighing to each of the stocks you identified in part 3. Below is an example of how the weightings may be distributed.

Step 3 - Assign Weightings to Each Stock

Step 4 - Finalize Weighting System Proportions

By now, you should have developed a list of disruptive stocks and assigned a weighting to each of them. Nevertheless, the question still remains... "How much should I invest in a stock of a given weighting?" One way to answer this question may be to follow the steps outlined below. Below is a table that outlines the process using the example I started in step 3. (Note, the yellow cells require user input while the green fields are calculated using formulas. )

Step 4 - Finalizing Your Weighting System

A) Assign relative weights to each weighting classification

  • Select the "lightest" of your weightings and assign it a relative weight of "1". In this example, featherweight has been assigned a relative weight of "1".
  • Select the next "lightest" of your weightings and assign it a relative weight. In this example, midweight has been assigned a relative weight of "2". This means that the investor intends to invest twice as much into a midweight stock than they would a featherweight stock.
  • Select the next lightest of your weightings and assign it a relative weight. In this example, heavyweight has been assigned a relative weight of "3". This means that the investor intends to invest three times as much into a heavyweight stock than they would a featherweight stock.
  • Repeat this process for all of your weighting classifications.
  • If you have a "No Weight" weighting than make sure to assign it a relative weighting of "0".

B) Count the number of stocks under each weighting classification

C) Calculate the "total weight"

For each weighting classification, multiply the relative weighting with the number of stocks under that given weighting classification - then sum all the results together.

D) Calculate The Final Answer | Single Stock Allocation

For each weighting, divide the "relative weighting" (A) by the "total weight" (C) to find the single stock allocation (D) as a percentage of your Self-Directed Allocation. As shown in the figure above, the "relative weightings" from (A) and the single stock allocations from (D) are directly proportional.

E) Check Your Work | Weighting Classification Allocations and Sum Checks

The last step is to make sure you did not make any mathematical errors along the way. The easiest way to do this is to make sure that your weighting system should add up to 100%. For each weighting, multiply the number of stocks (B) with the single stock allocation (D) to achieve the weighting classification allocation (E) for each weighting - then add all of the results together.

5 - Determine Your Buying Schedule

The last step is to determine your buying schedule. You may be tempted to make all of your investments at once, but there are plenty of good reasons to spread your investments out over a specified time period. This practice is called Dollar-Cost Averaging. The linked article makes some good points which I will summarize below.

About Dollar Cost Averaging Benefits
  • Dollar Cost Averaging tends to provide better outcomes during a falling market and, conversely, tends to provide worse outcomes during a rising market.
  • Dollar Cost Averaging helps investors avoid mistiming the market, take some of the emotions out of investing, and promotes longer term thinking.
Determining Your Buying Schedule

Determining your buying schedule should be more straightforward. You need to do is determine the duration of the overall time period and the number of investing installments for your given buying phase. For example, you could decide to fulfill your buying plan over 8 weeks, and 8 installments, meaning you would make investments once per week until your buying plan has been fulfilled. The hard part is to commit and follow through with your buying plan.

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